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Exchange rate and trade balance: A new approach using big mac index for the case of Thailand

By Vo The Anh (VNP 19)

Supervisor: Dr. Vo Hong Duc

Abstract

This thesis focuses on achieving two main objectives: (i) an evaluation of the Thailand’s currency to confirm whether a currency is over- or undervalued during the period from 1980 to 2013 for the case of Thailand; and (ii) a consideration of the effects of a currency’s devaluation on trade balance for the case of Thailand. In this study, these effects are considered in different aspects such as the determinants of a trade balance of Thailand; and the long run relationship between bilateral exchange rate and Thailand’s trade balance.

In relation to the first objective, empirical results confirm a solid validity of PPP for the case of CPI-based exchange rate and a weak evidence of the PPP for BMI based exchange rate. Additionally, the valuation of Thailand currency using CPI-based exchange rate is fairly consistent to that of BMI-based exchange rate with an exception of the outcomes during the 1997 Asian financial crisis. The Big Mac exchange rate is better when bilaterally evaluating the Thailand Baht to US dollar.

In term of the second main objective, empirical findings indicate that the exchange rate policy and relative growth rate of incomes play a central role in explaining Thailand’s trade balance, and the fiscal and monetary policies are beneficial in some cases. Moreover, the panel FMOLS estimations illustrate that a devaluation of Thailand Baht could provide positive effects on trade balance in the long run, especially for the groups of country with high income, upper middle income, in America, and Europe. The individual FMOLS regressions between Thailand and each of her 62 trading partners indicate that the devaluation of Thailand’s currency would stimulate Thailand’s trade performance with over 20 trading partners, but hurt its performance with the other 10 countries and inconclusive conclusion for the others.

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